This copy is for your personal, non-commercial use only. To order presentation-ready copies for distribution to your colleagues, clients or customers, click the "Reprints" link at the top of any article.

Bernanke Defends Fed Bond Buying

Program will spur growth and cut unemployment, Fed chairman says.

Chairman Ben S. Bernanke defended the Federal Reserve’s unprecedented bond buying in his first comments since the Fed renewed the purchases last month, saying the program will spur growth, cut unemployment, help savers and support the dollar.

The central bank will sustain record stimulus even after the expansion gains strength, and policy makers don’t expect the economy to remain weak through 2015, Bernanke said today in a speech in Indianapolis. The U.S. probably won’t fall back into a recession even with growth too weak to reduce a jobless rate stuck above 8 percent since February 2009, he said in response to an audience question.

“We expect the economy to continue to grow,” Bernanke said to the Economic Club of Indiana. “Our concern is not really a recession. Our concern is that growth will continue but at a pace that’s insufficient to put people back to work.”

Bernanke, 58, stood behind his unconventional policies by saying the late Nobel Prize-winning economist Milton Friedman “would have supported what we are doing.” The Federal Open Market Committee said last month it will keep the main interest rate near zero until at least mid-2015 and buy $40 billion of mortgage debt a month in a third round of quantitative easing until the labor market shows “sustained improvement.”

“We expect that a highly accommodative stance of monetary policy will remain appropriate for a considerable time after the economy strengthens,” Bernanke said in the speech. Still, policy makers’ forecast for the main interest rate “doesn’t mean that we expect the economy to be weak through” mid-2015, Bernanke said.

While payrolls are expanding, economic growth of 1.5 percent to 2 percent “is not fast enough to lower the unemployment rate” because it only keeps up with the number of new entrants into the labor force, he said.

Central bank policies to boost growth should not damage the value of the dollar on foreign currency markets, Bernanke said. The dollar “is about where it was before the crisis,” and pursuing maximum employment and low and stable inflation will make the U.S. currency attractive, he said.

Also, Fed easing, including the zero-interest-rate policy, will help savers by fueling the expansion, Bernanke said. “Only a strong economy can create higher asset values and sustainably good returns for savers.”

Bernanke, a scholar of the Great Depression, has deployed the most aggressive monetary policies since the Fed’s founding nearly a century ago as he battled the financial crisis, helped pull the nation out of the worst recession since the 1930s and sought to keep the expansion going.

More Assets

Bernanke expanded the balance sheet to $2.8 trillion from around $877 billion in August 2007. He also changed the composition of the Fed’s balance sheet, purchasing mortgage-backed securities to help lower yields for housing finance.

The Fed has taken “very much to heart” the conclusions of Friedman and Anna Schwartz, whose 1963 book, “A Monetary History of the United States, 1867-1960,” said the Depression was triggered by monetary tightening and the collapse of the banking system, Bernanke said.

“We were aggressive early on, we didn’t allow the fact that interest rates were very low to fool us into thinking that monetary policy was as accommodative as it needed to be, and we were aggressive, as you know, in trying to prevent the collapse of the banking system,” Bernanke said. “Those are all things that Friedman would have supported.”

Bernanke’s reference to Friedman aligns with decades of his research into monetary policy during the Depression. He once called a proper understanding of the Great Depression “the Holy Grail of macroeconomics.”

In a book of essays on the economy of the 1930s published in 2000, Bernanke embraced much of Friedman and Schwartz’s methodology while developing his own theories on the impact of credit on the duration and magnitude of business cycles.

As a Fed governor in 2002, Bernanke told Friedman during a speech: “Regarding the Great Depression. You’re right, we did it. We’re very sorry. But thanks to you, we won’t do it again.”

Bernanke applied his own scholarship and the analysis of Friedman and Schwartz to the financial crisis. Rather than allow large financial institutions to collapse, Bernanke and other U.S. regulators bailed them out with taxpayer-funded capital injections.

After the emergency capital was paid back, the Fed through annual stress tests forced the largest banks to hold more capital, both to avert future bailouts and to strengthen confidence banks could lend in times of stress.

Emergency Steps

Fed emergency measures, including five years of low interest-rate policies, “have not led to increased inflation,” and the public’s expectations for price gains “remain quite stable,” Bernanke said today. Fed officials have the necessary tools to tighten when needed to prevent “inflationary pressures down the road,” he said.

The Standard & Poor’s 500 Index maintained gains after Bernanke’s comments, adding 0.3 percent to 1,444.49 at the close of trading in New York. The yield on the 10-year Treasury note fell 0.02 percentage point to 1.62 percent.

The benchmark for American equities tumbled the most in almost four months last week, losing 1.3 percent to 1,440.63 on concern Europe’s debt crisis is worsening and stimulus measures may not be enough to boost economic growth. The S&P Supercomposite Homebuilding Index slid 7.3 percent for the biggest drop since June amid worse-than-expected housing data.

The Fed chairman said last month he wants stronger growth and improvement in the labor market, which he characterized as a “grave concern.” The U.S. economy added 96,000 jobs in August, less than forecast by economists and down from a 141,000 increase in July. The Oct. 5 jobs report may show employers added 115,000 jobs in September, according to the median of 80 economist estimates in a Bloomberg survey.

The economy grew less than previously forecast in the second quarter, the Commerce Department said Sept. 27. Gross domestic product expanded by 1.3 percent after expanding at a 2 percent rate from January through March. The revision compared with a prior estimate of 1.7 percent.

At the same time, the Institute for Supply Management’s U.S. factory index rose to 51.5 in September from 49.6 a month earlier, the Tempe, Arizona-based group said today. Economists in a Bloomberg survey projected a reading of 49.7 for September, according to the median of 76 forecasts. The dividing line between expansion and contraction is 50.

Third Round

The Fed’s third round of quantitative easing, announced Sept. 13, has no end date or fixed total amount, unlike the first two programs of bond buying. In the first, starting in 2008, the Fed bought $1.25 trillion of mortgage-backed securities, $175 billion of federal agency debt and $300 billion of Treasuries. In the second round, announced in November 2010, the Fed bought $600 billion of Treasuries.

Some Fed officials disagreed with the new asset purchases. Richmond Fed President Jeffrey Lacker, who has dissented from every FOMC decision this year, said in a Sept. 15 statement that he opposed new easing in mortgage-backed securities because allocating credit should be the province of fiscal authorities such as the U.S. Treasury or Congress.

Charles Plosser of Philadelphia said in a Sept. 25 speech that more easing probably won’t boost growth or hiring and may jeopardize the Fed’s credibility. James Bullard of St. Louis said in a Sept. 27 CNBC interview that policy makers should have held off on new bond buying until they had a clearer picture of the global economy. The two regional Fed bank presidents don’t have a vote on the FOMC this year.

Treasury & Risk

Treasury & Risk is an online publication and robust website designed to meet the information needs of finance, treasury, and risk management professionals. Our editorial content, delivered through multiple interactive channels, mixes strategic insights from thought leaders with in-depth analysis of best practices, original research projects, and case studies with corporate innovators.